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MONETARY AND EXCHANGE RATE POLICY
FOR 2007
Central Bank of the Republic of Turkey
13 DECEMBER 2006
GENERAL FRAMEWORK OF THE MONETARY POLICY
A Brief Evaluation of the First Year of the Inflation Targeting Regime
1. The Central Bank of the Republic of Turkey (Central Bank) adopted the formal
inflation-targeting regime at the turn of 2006, and since that time has
implemented a policy consistent with the principles laid out in the policy
statement entitled “General Framework of Inflation Targeting Regime And
Monetary And Exchange Rate Policy for 2006” and released on 5th of
December, 2005.
2. Four Inflation Reports have been published in 2006, in January, April, July and
October. These reports have explicated the Central Bank’s inflation forecasts
and policy perspectives. The main messages of the reports have been shared
with the public each time in by means of press conferences.
3. The Monetary Policy Committee (Committee) held regular meetings
throughout 2006, in addition to the interim meetings held in June, in line with
the pre-announced annual timetable to determine policy rates. Press releases
explaining the rationale of decisions and the Committee’s policy stance have
been published along with interest rate decisions. Moreover, the summary
reports of the Committee’s discussions have been released within five working
days following the meetings.
4. In the first year of the inflation-targeting regime, some supply-side shocks
were experienced, which caused inflation to materialize above the path
consistent with the target. The Central Bank explained the reasons of this
deviation through open letters written to the Government, took the necessary
measures to put inflation back on track consistent with the target and shared
its evaluations pertaining to the timing of convergence to the target with the
public in a transparent manner.
5. These implementations not only strengthened the communication framework
of monetary policy, but also played an important role in shaping the
expectations. Although the inflation rate has stabilized at around 10 percent-
level for a long time due to the supply-side shocks experienced in 2006, the
fact that the inflation expectations for the next 24 months is around 5.5 percent
as of today is a clear evidence of the success achieved in the inflation-
targeting. However, being ultimately focused on price stability, the Central
Bank cannot be content with what has been achieved until medium-term
expectations are consistent with the target.
6. As a result, important steps were taken in 2006 on the way to transparency,
accountability and predictability, which are the main principles of the inflation-
targeting regime. This press release aims to review the strategic as well as the
operational framework of monetary policy in light of the first year’s experience
and to lay down the principles for 2007. In the first part of the text, the general
framework of monetary policy will be presented, and in the second part
exchange rate policy and liquidity management issues will be considered.
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Inflation Targets
7. Inflation targets will continue to be defined as the end-year rate of inflation
calculated by the annual percentage change of the Consumer Price Index
(CPI) in the upcoming period. In the press release regarding the monetary and
exchange rate policy for 2006, the target horizon was set as three years and
this time frame will be preserved for 2007. Taking into account the structural
transformation of the economy, the transition from chronic high inflation to low
inflation, and the process of convergence to the developed countries, a target
of around 4 percent is considered appropriate for the medium-term. Therefore,
inflation targets for 2007 and 2008, which were previously announced as 4
percent, are maintained and the inflation target for 2009, which was scheduled
to be announced at the end of this year, has also been determined as 4
percent. As the structural transformation and convergence process is
completed in time, it will be possible to target lower inflation rates.
Uncertainty Band
8. In Article 42 of the CBRT Law it is stipulated that “The Bank shall submit
information to the Government in writing and inform the public disclosing the
reasons for the incapability to achieve the determined targets in due time
published or the occurrence of the possibility of not achieving and the
measures to be taken thereof”. However, it does not specify the size of the
deviation from the target that will require such an explanation. Therefore, in
order to clarify this mechanism and facilitate its operation, the Central Bank
has set a symmetrical uncertainty band of 2 percentage points in both
directions around the point target.
9. It has been decided to keep the uncertainty band around the target at 2
percent for 2007 as well. The path consistent with the end-year target and the
uncertainty bands defined for the end of each quarter of 2007 are shown in
Table 1. In case the figures go outside the band, the Central Bank shall submit
a separate report to the Government disclosing the reasons for the deviation
and the measures to be taken for convergence to the target and share this
report with the public. The path shown in Table 1 will also be used as
performance criterion for the IMF reviews within the framework of the Stand-by
program.
Table 1: Inflation Path Consistent With the End-Year Target And The
Uncertainty Band
March June SeptemberDecember
Uncertainty Band
11,2 8,7 7,3 6,0
(upper limit)
Path Consistent
9,2 6,7 5,3 4,0
with the Target
Uncertainty Band
7,2 4,7 3,3 2,0
(Lower Limit)
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The Difference Between The Targets and Forecasts
10. In last year’s policy statement regarding the general framework of the inflation-
targeting regime, it was stated that the inflation target would only be changed
in the event that sharp and long-term deviations from the target are expected
or the medium-term targets no longer make sense due to factors beyond the
control of monetary policy. It was also stated that temporary shocks would only
change inflation forecasts rather than inflation targets and the points of
reference to be used by economic agents would be inflation forecasts for the
short-term and the inflation target for the medium-term. This policy approach
was put into practice after the supply-side shocks of 2006. The inflation
forecasts were updated in July and it was announced that inflation would stand
well above the end-year inflation target; however, the target for end-2006 was
not changed. Accordingly, the economic agents have taken the inflation
forecasts announced by the Central Bank for end-2006 as a point of reference
instead of the end-year inflation target for 2006. In fact, inflation expectations
for end-2006 are in line with the Central Bank’s forecasts.
11. It is not something exceptional for the countries implementing inflation-
targeting regime to experience significant deviations from the inflation target.
What matters most here is to be able to explain the reasons for the deviation,
to take necessary measures to ensure that the target could be attained again
and to inform the public of the convergence period. If the Central Bank had
changed its inflation target for end-2006 as 10 percent, it would have achieved
the end-year target and would not have been liable to be called to account to
the public. However, instead of changing the target, the Central Bank
preferred to render account to foster its communication policy. Within this
framework, the Central Bank will inform the Government through a new open
letter in January 2007 and explain the reasons for overshooting the end-year
inflation target, in addition to sharing its projections pertaining to the
convergence process with the public.
12. In conclusion, the Central Bank considers that frequent changes in targets are
likely to have adverse effects on inflation expectations and pricing behaviors,
which could damage the credibility of the future commitments. For this reason,
it is important in the upcoming period that targets should be left intact as long
as inflation is expected to converge to targets within a reasonable period of
time.
Transmission Mechanism and Control Horizon
13. Central banks in both developed and developing countries experience serious
uncertainties regarding the lagged effects of monetary policy on inflation.
Considering the fact that the relationship between macroeconomic variables
changed remarkably along with the structural transformation in the economy
after the 2001 crisis, it is assessed that the mentioned uncertainty in Turkey is
at least as high as those in other countries.
14. However, in light of the recent normalization experience, it is possible to
produce forecasts about the period required for monetary policy to influence
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inflation. The latest observations indicate that the period needed for monetary
policy measures to affect domestic demand varies between 3 to 9 months,
while the change in demand influences inflation in a period between 3 months
and 1 year. This leads us to the conclusion that the impacts of monetary policy
on inflation spread over a period of one and a half years on average.
15. In this context, taking into account the lagged impacts of monetary policy, the
Central Bank defined the policy horizon as approximately one and a half years
in the main policy statement published last year. Although it is forecasted that
the impact of monetary policy on inflation will show itself in a more lagged
manner and that the control horizon may be extended as the normalization
process of the economy continues, the control horizon is maintained as one
and a half years at this stage. There is no doubt that this period may be
extended or shortened depending on the extent of shocks and the period
needed for their influence to reflect on prices. The impacts of various shocks
on inflation may differ according to time and period. As a consequence, the
period required for inflation to converge to the target again will be announced
after the occurrence of shocks and the determination of their sources, if there
is a significant deviation from the target.
Forecast Horizon
16. The forecasts presented in the Inflation Reports published throughout 2006,
covered a period of one and a half years. From 2007 onwards, forecasts will
refer to a two-years period. This change aims to help economic agents to
predict the future better. Furthermore, forming a comparable forecast period
with the results of the Expectations Survey will provide us with the opportunity
to analyze and assess inflation forecasts more easily.1
Inflation Forecasts and Interest Rate Path
17. While producing inflation forecasts, one of the most critical questions to be
answered is how the monetary policy is shaped over the forecast horizon.
Country experiences reveal that there are many different approaches related
to the presentation of forecasts and the method of signaling future monetary
policy. Accordingly, central banks can be classified into three groups:
(i) Countries in which central banks produce inflation forecasts
by considering their own potential policy responses: New
Zealand, Norway, Canada, Sweden, Czech Republic,
Turkey, Columbia, Peru, Rumania. In addition, these
countries announce their forecasts on the interest rate path
in verbal or numerical terms.
(ii) Countries where central banks employ the market
expectations: European Union (European Central Bank),
Chile, Brazil, Czech Republic, Sweden, and England. In this
framework, the expected short-term interest rate path is
calculated via the yield curve, expectations survey and
1
In the survey, the farthest period of time given for inflation expectations is 2 years.
4
other sources and inflation forecasts are published under
the assumption that this path will materialize.
(iii) Countries in which central banks assume that interest rate
will remain fixed over the forecast horizon: England, Brazil,
Peru, and Australia.2
18. In recent years, both academic literature and current central banking
implementations increasingly support the approach adopted by the first group,
including Turkey for sharing the own expectations of the central banks about
future monetary policy with the public corresponds to the transparency and
predictability principles of inflation targeting. In this context, it is observed that
more countries from second and third groups join the first group each year.
Monetary Policy and Interest Rate Risk
19. As mentioned above, the Central Bank shares its forecasts about monetary
policy verbally with the public. When evaluating the inflation and monetary
policy outlook, a particular question to be answered is raised: How should the
policy perspective that will keep inflation close to the target in the medium-
term (in a period of one and a half years to two years) be? The answers to this
question as provided in the Inflation Reports published in 2006 were as
follows:
• JANUARY 2006: “... a short-term interest rate path remaining constant for
the first couple of months in 2006 and displaying a gradual decline
thereafter...”
• APRIL 2006: “...where the Central Bank continues to cut policy rates
gradually...”
• JULY 2006: “... in addition to the measures of June, the Central Bank will
implement measured monetary tightening in the rest of 2006 and cut policy
rates gradually in 2007...”
• OCTOBER 2006: “under the scenario that the Central Bank maintains its
tight stance until the last quarter of 2007 and cuts policy interest rates
afterwards...”
20. As it is clearly seen above, as long as there was not a significant shock in the
economy, the Central Bank acted in parallel to its earlier statements. However
it had to revise its monetary policy stance after important shocks such as the
market volatilities of May and June. It is more evident in light of these this
example that, as it is frequently emphasized in our announcements, the
interest rate path, which is used by the Central Bank in producing forecasts,
should not be perceived as a commitment to be followed in every case.
Hence, the interest rate risk should be assessed by considering the fact that
the outlook presented in the Inflation Report is subject to change depending
on the data flow, and thus, the policy perspective can be updated whenever
2
Some central banks follow more than one method while producing forecasts about interest rates. For instance,
Bank of England is in both the second group (expectations for market interest rates) and third group (fixed interest
rate).
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necessary. Since the end of 2005, the Central Bank has repeatedly drawn
attention to this matter via the Inflation Report and other policy documents.
Special CPI Aggregates and Core Inflation
21. Instead of considering a single so-called core indicator, the Central Bank uses
more than one indicator in the differentiation of various exogenous shocks.
Thus, depending on the source of shocks, different indicators may stand out
from time to time. For instance, the index that excludes the energy item in a
period where oil prices display high increases or the index that excludes the
unprocessed food group in a period where agricultural prices fluctuate
excessively may contain more comprehensive information in order to achieve
a better understanding of the main inflation trend.
22. Special CPI aggregates produced will continue to be a part of the forward-
looking inflation analysis and the communication policy of the Central Bank. As
of 2005, TURKSTAT started to publish 7 special CPI aggregates and
beginning from September 2006 the H index composed by excluding energy,
alcoholic beverages-tobacco, unprocessed food, and gold has started to be
published. Currently, even though the H index seems to be relatively in the
forefront, it should be kept in mind that this index is sensitive to developments
in FX rates and it could provide incomplete information in periods when FX
rates are highly volatile. In such periods it would be appropriate to support the
data from the H index with other indexes that have low FX rate pass-through
(for example; evaluating them with service prices inflation).
23. Hence, the Central Bank will not use only one indicator to assess the main
trend in inflation and will openly inform the public of the type of the relevant
indicator and the degree of its importance. Moreover, after reaching a
satisfactory number of observations, new indices can be compiled based on
different techniques and the SCA can be updated.
Public Sector’s Role in the Inflation Targeting Regime
24. In the inflation-targeting regime, developments in the public sector are a
matter of concern from the monetary policy perspective. The CBRT certainly
cannot control polices implemented by the public sector. However, the fact
that the size of the public sector relative to the economy is still large makes it
necessary to closely monitor the developments in this area. In accordance
with its law, a central bank, which focuses on price stability, has to monitor
developments in budget and fiscal policy and has to react to the possible
repercussions of these policies on inflation.
25. Policies of the public sector have the potential to affect the inflation outlook
through various channels. The first channel comprises expectations. Further
enhancement of fiscal discipline through its continuity will increase the
effectiveness and predictability of monetary policy by extending the borrowing
maturities and reducing risk premiums and the volatilities in risk premiums and
facilitate the management of inflation expectations.
6
26. Pricing behavior of goods and services produced or controlled by the public
sector itself or the indirect taxation channel has a direct effect on inflation. In
this framework, pricing goods and services produced by the public sector
rationally and enhancing the quality of fiscal discipline is crucial in terms of the
predictability of inflation.
27. Another channel, which affects inflation and inflation expectations, is the
incomes policy of the public sector. One of the main determinants of
expectations for price and wage inflation in Turkey is the increase in wages
made by the public sector to its own employees. Wage increases in the public
sector may set a precedent for the private sector. In this context, the
consistent trend of the incomes policy with the inflation target is significant in
terms of achieving the inflation-targets more easily and quickly.
28. One of the main components of total demand is the public sector’s direct
purchase of goods and services. Therefore, while evaluating developments
regarding the inflation outlook, the Central Bank carefully monitors public
expenditures as well.
29. The Central Bank takes into consideration the budget projections while setting
the inflation targets and the monetary policy perspective and hence, makes
various assumptions regarding the channels mentioned above. In case of an
unpredicted development in one of the channels, the policy stance needs to
be updated.
Monetary Policy Committee Meetings and the Decision-Making Process
30. The Monetary Policy Committee will continue to meet once a month in the
upcoming period as it has done since 2001 and as stipulated by Central Bank
Law. The meeting will continue to be held in two sessions. The first session
will start at 1:00 pm and will host the Central Bank authorities and specialists
as well as authorities from the Undersecretariat of Treasury. In this session,
the related bodies of the Central Bank will present their reports on evaluations
about economic developments and inflation outlook to the Monetary Policy
Committee. At the same time, the authorities from the Undersecretariat of
Treasury will present their evaluations on the developments in debt
management and fiscal policy to the Committee. In the second session, the
Committee members will make the final evaluations about the outlook and the
decision will be put to a vote. After making a decision, members of the
Committee will prepare a brief report explaining the rationale of the decision.
The decision and its rationale will be announced by the Central Bank in a
press release before 7:00 pm on the same day, and it will also be posted on
the website of the Bank. A significant change in the upcoming period is that
the Turkish version and the English translation of the decision will be
published on the same day.
Other Policy Statements and Important Dates
31. The Central Bank will continue to publish main policy statements regularly in
2007 as well. Within this framework:
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• The Inflation Report will continue to be published quarterly.
• The Financial Stability Report will be published twice a year on previously
announced dates.
• The statement entitled Summary of the Monetary Policy Committee
Discussions will be published within 8 working days following the meeting with
the title Summary of the Monetary Policy Committee Meeting, alongside its
English translation.
• As of July 2006 the “Price Developments” report started to be published to
provide an accurate understanding of inflation data. This report will be
published within 2 working days following the announcement of inflation data.
• Besides all these statements, presentations and speeches made by the
Governor and the Committee members will be shared with the public from time
to time.
• Moreover, the research papers, booklets, and technical notes published by the
Central Bank and organized conferences will continue to be a part of the
communication policy.
32. The publication calendar for the Inflation Report and the Financial Stability
Report along with the Monetary Policy Committee Meeting dates are
presented in the Appendix. Meeting dates have been determined by taking
into account such factors as official holidays, national and religious festivals,
and the data flow calendar.
EXCHANGE RATE POLICY AND FOREIGN EXCHANGE BUYING
AUCTIONS
33. Along with inflation targeting, the Central Bank will continue to implement a
floating exchange rate regime in the upcoming period. In the floating exchange
rate regime the FX rate is neither a target, nor a policy tool. The only variable
that the Central Bank sets as target is inflation and the main policy tool to
achieve this target is short-term interest rates. Therefore, the Central Bank
targeting a variable such as FX rate, growth or current account deficit is out of
the question.
34. The Central Bank shares with the public the general framework of the current
exchange rate policy and FX buying auctions in the press releases it has
issued each year since the start of 2002. As also stated in these press
releases;
i) In the current floating exchange rate regime, exchange
rates are determined by supply and demand conditions in
8
the market and the Central Bank does not have any
exchange rate target.
ii) Since there is no exchange rate level to maintain in
countries with floating exchange rate regimes, the level of
foreign currency reserves is much less significant compared
to countries with fixed or flexible exchange rate regimes.
However, especially in emerging economies such as
Turkey, a strong FX reserves position is significant in
removing the unfavorable effects of potential internal and
external shocks and boosting confidence in the country’s
economy. In addition, taking into account the foreign debt
payments of the Treasury and the need to gradually reduce
the number of high-cost remittance accounts in the long-
term, which are peculiar to Turkey and make up a
significant part of the liabilities side of the Central Bank’s
balance sheet, the Central Bank holds foreign exchange
buying auctions to build up reserves at times where foreign
exchange supply constantly increases compared to foreign
exchange demand.
iii) The economic transformation process experienced after the
2001 crisis has enabled significant achievements in
macroeconomic stabilization and helped reduce the
“dollarization” effect created by unstable macroeconomic
policies and high inflation in the past. Despite some
deviations from this main tendency due to exogenous
shocks and changes in risk perceptions, decisive
implementation of economic program has always enabled a
return to the main tendency. This process, combined with
favorable developments in the balance of payments, has
supported the increase in foreign exchange supply in the
economy.
iv) In this framework, in order to minimize the impact on supply
and demand conditions in the foreign exchange market, the
Central Bank, which follows a moderate reserve-raising
policy, has conducted its FX buying via auctions, whose
terms and conditions are announced with due notice, since
1 April 2002. Moreover, the Bank has announced annual
auction programs since 2005 and does not make any
amendments to these programs, unless extraordinary
differences are observed in foreign exchange liquidity.
v) Meanwhile, as also emphasized in all its press releases, the
Central Bank will continue to closely monitor the volatility in
exchange rates and may directly intervene in the markets in
the event of excessive volatility that might occur in either
direction. These volatility interventions are not only carried
out by considering past data with a mechanical rule, but by
evaluating all aspects of realized and potential volatilities.
9
35. In the press release referred to as “The General Framework of Inflation
Targeting Regime and Monetary and Exchange Rate Policy for 2006” dated 5
December 2005, the annual auction program for 2006 was announced in
consistence with the aforementioned general framework. The maximum daily
amount that can be bought was determined as USD 60 million, with USD 20
million of auction amount and USD 40 million of optional selling amount (200
% of the total amount sold), to be effective as of the 2nd of January 2006.
36. However, in line with the decline in foreign exchange supply due to global
liquidity conditions, the depth of the foreign exchange market was lost and
volatilities were observed in exchange rates. Therefore, the Bank decided to
suspend daily FX buying auctions for a certain period of time, starting from the
16th of May 2006.
37. Moreover, as a response to the excessive volatility in exchange rates
observed in 2006, the Central Bank directly intervened in the market via one
FX buying intervention and three FX selling interventions. These interventions
were as follows:
i) Following the increase in foreign exchange sales due to
developments in international markets, the Central Bank
decided to directly intervene in the market by buying a total
amount of USD 5.4 billion foreign currency on 15 February
2006, in order to prevent actual and expected excessive
volatilities.
ii) On 13 June 2006 and 23 June 2006, the Central Bank
decided to directly intervene in the market by selling foreign
currency in order to prevent the excessive volatility
observed in line with the liquidity shortage in the foreign
currency market due to global liquidity conditions. Total
amounts sold were USD 0.5 billion and USD 0.8 billion,
respectively.
iii) In the Monetary Policy Committee meeting held on the 25th
of June 2006 following the aforementioned interventions, it
was stated that the liquidity shortage in the foreign currency
market continued and once again underlined that an
effective foreign currency market was a prerequisite for the
price stability target. Thus, in order to provide foreign
currency supply via its instruments and mechanisms, the
Central Bank directly intervened in the market by selling an
amount of USD 0.9 billion foreign currency on the 26th of
June 2006. In addition to this intervention, two more FX
selling auctions were held on the 26th and 27th of June
2006, in which a total amount of USD 1 billion foreign
currency was sold.
38. Following the measures taken by the Central Bank against the volatility in
financial markets in May and June 2006 and improved global liquidity
conditions, the foreign exchange market has become relatively stable. For this
reason, the Central Bank has decided to resume the foreign exchange buying
auctions, which were suspended on the 16th of May 2006, as of the 10th of
10
November 2006. Accordingly, the maximum daily amount to be purchased in
the auctions has been set at USD 45 million, with USD 15 million for auction
amount, and USD 30 million for optional selling amount (200 % of the total
amount sold).
39. As of 12 December 2006, the total amount of foreign currency purchased via
auctions and interventions is USD 9.4 billion, while the total amount sold is
USD 3.1 billion for the whole of 2006. The total amounts of foreign currency
purchased and sold by the Central Bank are shown year by year in the table
below:
Table 2: The Central Bank’s Net Foreign Exchange Purchases and Sales
(2002-2006; million USD)
FX Buying FX Selling FX Buying FX Selling Total Net FX
Year
Auctions Auctions Interventions Interventions Buying
2002 795 - 16 12 799
2003 5.652 - 4.229 - 9.881
2004 4.104 - 1.283 9 5.378
2005 7.442 - 14.565 - 22.007
2006* 3.961 1.000 5.441 2.105 6.297
Total 21.954 1.000 25.534 2.126 44.362
* As of 12 December 2006
40. Unless extraordinary differences are observed in foreign exchange liquidity
conditions, FX buying auctions will continue in 2007 in the framework of the
aforementioned program. However, as was the case before, the Central Bank
may, with prior notice, suspend the auctions temporarily for short or longer
periods when the depth of the foreign exchange market is lost due to
exogenous shocks or unforeseen extraordinary developments, and when the
resulting excessive volatility and unhealthy price formation are observed in
foreign exchange rates. On the other hand, the Central Bank will continue to
closely monitor the volatility in exchange rates also in 2007 and will directly
intervene in the market in the event of actual and potential excessive
volatilities.
41. Banks will be able to borrow foreign exchange in terms of USD and euro from
the Central Bank within the predetermined limits with a one-week maturity in
the Foreign Exchange and Banknotes Market-Foreign Exchange Deposit
Market in the upcoming period too. Moreover, the purchase/sale transactions
of “foreign exchange against foreign exchange”, “ foreign exchange against
foreign banknotes” and “foreign banknotes against foreign banknotes”
conducted between the Central Bank and institutions authorized to operate in
the Foreign Exchange and Banknotes Markets will continue.
42. In conclusion, as can be understood from the general framework and our
exchange rate policy implementations described above, exchange rates are
established by supply and demand conditions in the foreign exchange markets
under the implementation of the floating foreign exchange regime. The key
11
determinants of foreign exchange supply and demand are the monetary and
fiscal policies and the economic fundamentals determined by the structural
reform process and expectations. It should be borne in mind that in a floating
exchange rate regime, economic agents operate in an environment of
exchange rate risk. Nevertheless, as repeatedly emphasized by the Central
Bank, exchange rate risk is a manageable risk and economic agents should
establish the mechanisms that will ensure the efficient management of this
risk.
LIQUIDITY MANAGEMENT
43. Excess liquidity, which was created by the Central Bank’s purchases of
government securities worth of YTL 14 billion from state-owned banks and
banks transferred to the Savings Deposit Insurance Fund (SDIF) in order to
meet their liquidity needs following the February 2001 crisis, as well as the
intensive foreign exchange purchases during the 2003-2005 period, persisted
in 2006.
44. The Central Bank, withdrew the excess liquidity in the market mainly via New
Turkish Lira deposit operations in the Interbank Money Market within the
CBRT and Repo transactions in the Repo and Reverse Repo Market of the
Istanbul Stock Exchange, on an overnight basis. Accordingly, overnight
interest rates were constantly realized around the borrowing rate of the Central
Bank. Hence, the borrowing rate of the Central Bank has continued to be an
indicator for money markets.
45. Based on the information currently available, the level of the liquidity in the
market in 2007
i) The increase in base money,
ii) Coupon and principal redemption by the Treasury to the
Central Bank,
iii) Treasury’s foreign exchange debt payments financed by its
domestic currency borrowing
will have a lowering effect, while
i) The Central Bank’s net foreign exchange purchases,
ii) Interest payments to be made by the Central Bank for
reserve requirements and for excess liquidity absorbing
transactions,
iii) The decline in Treasury cash accounts with the Central
Bank will have an increasing effect on liquidity.
46. Based on the assumption that the foreign exchange payments of the Treasury
would exceed the foreign exchange inflow, and by taking the Central Bank FX
buying auction program into consideration, the excess liquidity in the market is
expected to continue within reasonable limits in 2007, even though temporary
liquidity shortages may occur. However, as in previous years, it is not possible
to make a precise forecast regarding the net foreign exchange payments of
the Treasury, the amount of the Central Bank’s foreign currency purchases
12
and the balance of Treasury cash accounts with the Central Bank. Depending
on the variations of these variables, the market liquidity may change
significantly.
47. As long as the excess liquidity in the market remains at reasonable levels, as
foreseen in the main scenario, the Central Bank will continue to withdraw the
excess liquidity in the market, on an overnight basis, via New Turkish Lira
deposit operations in the Interbank Money Market within the CBRT and Repo
transactions in the Repo and Reverse Repo Market of Istanbul Stock
Exchange. Accordingly, overnight interest rates will continue to realize at the
level of the borrowing rate of the Central Bank. Thus, the overnight borrowing
rate of the Central Bank will continue to be the benchmark interest rate with
respect to monetary policy.
48. In case of a permanent liquidity shortage in the market, the benchmark short-
term interest rate will be the average interest rate of the repo auction, not the
daily borrowing interest rate of the Central Bank. Therefore, in case of liquidity
shortage, the interest rate taken as a benchmark by the market would have
become higher merely due to the decline in liquidity. In order to avoid any
negative impacts, the Central Bank could revise its interest rates – provided
that the inflation outlook is stable – so as to encounter the pressure created by
the liquidity shortage. However, such an interest rate cut would only mean a
technical arrangement stemming from the change in liquidity conditions.
Therefore, such a move should not be perceived as a loosening or tightening
of monetary policy.
49. Under the assumptions regarding liquidity stated above, the Central Bank’s
2007 liquidity management strategy will be as follows:
i) The Central Bank will continue to announce overnight
borrowing and lending interest rates between 10:00-12:00
and 13:00-16:00 in the Interbank Money Market within the
CBRT. In case of a liquidity shortage during the day, banks
will be able to borrow at the Central Bank’s lending rate
against collateral within their limits. In the event of a fall in
interest rates due to increasing liquidity, banks will be able
to lend New Turkish Lira to the Central Bank at the Central
Bank’s borrowing rate.
ii) The Central Bank will continue to provide the Late Liquidity
Window Facility in the Interbank Money Market within the
CBRT between 16:00-16:30 such that banks may borrow
from or lend to the Central Bank against collateral without
any limit.
iii) In case of a temporary or permanent liquidity shortage, the
Central Bank will continue to carry out liquidity management
through one-week repo auctions. When there is liquidity
shortage in the market, the Central Bank will announce the
amount of repo auction for that day on Reuters’ CBTF page
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at 10.00. While determining the amounts of the auction, the
Central Bank - as long as no extraordinary fluctuations are
observed in the market - will endeavor to maintain the
average auction interest rate;
a. At maximum of 1 percentage point above the O/N
borrowing rate of the Central Bank announced for
the intra-day transactions and to reduce fluctuations
in O/N interest rates, in cases where the liquidity
shortage in the market is envisaged temporary and
when the technical interest rate cut explained in
paragraph 48 is not applied,
b. At approximately the mid point of the O/N borrowing
and lending rates of the Central Bank, in cases
where the liquidity shortage in the market is
envisaged permanent and the technical interest rate
cut explained in paragraph 48 is applied.
iv) The weekly repo auctions will be executed at 11:00 and the
results will be announced on Reuters’ CBTG page no later
than 11:30. The traditional auction method will be used in
auctions; in other words, the successful bidders will be
evaluated with their own interest rates.
v) In case of unforeseen excessive liquidity shortage during
the day, which would exert excessive pressure on money
market interest rates, the CBRT may announce “Intra-day
Repo Auctions” in addition to the regular ones.
vi) The primary dealer banks will be able to conduct repo
transactions within the framework of open market
operations, between 10.00–12.00 and 13.00–16.00 hours.
vii) In case of an excessive increase in the liquidity surplus or
the emerge of extraordinary fluctuations in the market even
at reasonable levels of excess liquidity, to enhance the
effectiveness and flexibility of monetary policy and liquidity
management strategy, in addition to YTL deposit buying
auctions with standard maturities, , – reverse repo auctions
and Central Bank liquidity bills with maturity up to 91 days
may also be used actively., ,. As a matter of fact, technical
procedures regarding the issue of the said bills were
completed by the Central Bank, by “the Communiqué on
Liquidity Bills” published in the Official Gazette, number
26310, dated 5th of October 2006.
viii) Currently, depending on liquidity conditions, whether there
will be standard one week or two weeks YTL deposit buying
auctions will be held or not, if there will be an auction, the
maximum amount to be drained through the auction is
announced at 10.00 at Reuter’s CBTY page. In 2007, the
Central Bank may hold New Turkish Lira deposit buying
auctions with standard maturities of 1, 2 and 4 weeks and
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continue to announce the maturity and the maximum
amount to be bought in the auction(s) on Reuters’ CBTY
page. Starting from 2007 onwards, no announcement will
be made on the said page on days when no auction is
deemed necessary according to liquidity conditions. In case
the issue of liquidity bills is deemed necessary, the method
of issue of the said bills and other related information will be
announced to the public in advance by a press release.
50. As always pointed out , the Central Bank deems the stability and development
of financial markets as a supporting objective for the effective implementation
of policies pertaining to price stability. As a matter of fact, compatible with the
floating exchange rate regime, the Central Bank has taken measures towards
maintaining financial stability several times in the last four years. Within this
context, the Central Bank, the primary goal of which, entrusted to it by law, is
to establish price stability, will continue its practices to enhance the
effectiveness of the monetary policy and liquidity management, also in 2007.
Accordingly, the Central Bank may change not only its liquidity management
strategy, but also the borrowing and lending interest rate margins in cases of
unpredictable changes in market conditions and according to the new needs.
51. Obviously, under the floating exchange rate regime, the Central Bank is able
to implement the YTL liquidity policy in a more flexible manner than it can
under a fixed currency peg regime and can act more promptly and flexibly to
meet the YTL liquidity needs of the banking system. The Central Bank can
prevent excessive fluctuations in money market interest rates as long as they
are consistent with the inflation target. However, it is worth mentioning once
more that the banking system should not slacken risk management principles
by simply relying on the more flexible and effective liquidity management of
the Central Bank; to the contrary, it should use risk management principles
effectively.
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ANNEX: CALENDAR FOR 2007
MPC Meeting Dates Inflation Report Financial Stability Report
16 January, Tuesday 29 January, Monday
15 February, Thursday
15 March, Thursday
18 April, Wednesday 27 April, Friday
14 May, Monday 31 May, Thursday
14 June, Thursday
12 July, Thursday 27 July, Friday
14 August, Tuesday
13 September, Thursday
16 October, Tuesday 26 October, Friday
14 November, Wednesday 30 November, Friday
13 December, Thursday
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